What To Expect in March and April

The strongest 6 months of the calendar run from November through April. November through January is traditionally the strongest 3 month stretch of the year.

February is the weak link in the 6 month chain. Seasonal strength returns in March and April. 

In the first chart (from SentimenTrader), you can see that March and April are up 65% of the time on average for 1 to 2.6% gains each month. 

The second chart (from David Stendahl) shows March and April are strong whether viewed over the past 5, 10 or 15 years. Adding granularity, March seems to start weak and then rip from mid-month onwards.

The potential fly in the ointment is that in post-election years, March is weak (see third chart). As Stock Trader's Almanac says: "In post-election years, March ranks 5th worst for DJIA, S&P 500 and Russell 2000. NASDAQ is 4th worst. In 10 post-election years since 1973, NASDAQ has advanced just four times in March."

Getting too granular or literal on seasonality is not a great investing approach in the absence of other confirming factors. That said, April is typically solid, and if March presents a nice dip, seasonality is a tailwind on the long side (see fourth chart). 

Charts below.

What Monday's Jump in VIX Means For SPX

On Monday, VIX jumped to 19, an increase of 34% in one day and 55% over the prior week. What does this imply for SPX?

We have previously noted that VIX was, like today, in a period where it was sub 20 between 2003-07. Overall during this time, returns for SPX were mostly very good. However, VIX would occasionally jump 50-80% higher and $SPX would decline more than 5% over the next 1-4 months. We are potentially repeating this pattern now.

In the first chart below, we have updated the chart from 2003-07. The bottom panel shows VIX moves of greater that 30%, of which there were 9. In the top panel are corresponding moves in SPX. The percentage drop in SPX is noted in the text.

In the second chart, we have done the same analysis from 1992-97, also a period of low volatility. The conclusions are the same, with corresponding pullbacks of 5-10%.

Sellers Are In Control

This is a follow on to last week's post on the first major distribution day (MDD) since November (read it here). Recall that a MDD occurs when down volume is more than 90% of total volume on the NYSE.

At the time, we postulated that (1) an MDD the day after a new high in $SPX portends further downside, and (2) that a cluster of MDDs would indicate sellers are in control and lower prices will prevail. Sure enough, yesterday a second MDD hit the market that knocked out all the gains in the indices from over the past month.

Today, all 4 US indices and 6 of 6 cyclical SPX sectors are below their 20-dma. Watch the slope of those averages; the rest of the world has led the US markets, and their averages are now down sloping (see first chart, below). The US appears to be in the process of resynchronizing with those markets (second chart).

For at least the short term, sellers are in control of the market, and will remain so until one or both of the following transpire:

1. US indices and a majority of the 6 cyclical sectors on the SPX regain their upward sloping 13-ema (or 20-dma), showing that the trend remains higher and is being led by economically sensitive stocks.
2. Breadth swings forcefully in favor of bulls. In the third chart below, you can see that in the past, following a cluster of MDDs (red bars, bottom panel), the rebound only took hold when up volume exceeded 90% - a major accumulation day (MAD; middle panel with the green bars). Strong positive breath pushes a large number of stocks higher. With some follow through, $NYMO will also turn positive and $NYSI will regain its positive slope. An intervening distribution day obviously puts the ball back with the sellers (see May-June 2010).

Again, for the time being, sellers remain in control. Charts below.

Bullish Sentiment Declines Ahead of Price

Last week, $SPX made an uptrend high (1530). During the past few weeks, bullish sentiment as measured by AAII, II and NAAIM, has declined from their early February peaks. Many pundits have pointed to the declining number of bulls as a sign of further upside in price. Is it?

Historically, the answer is no. Bullish sentiment tends to peak ahead of price and then decline, making a negative divergence. Thus, the recent decline in bullish sentiment is consistent with the later stages of an uptrend. Bullish sentiment typically peaks when AAII is over 50%, II is over 35% and NAAIM is over 80%. AAII and NAAIM have recently exceeded those levels; II came close (32%).

The later stages of an uptrend are difficult. The trend is higher but becomes rounded as some investors become cautious ahead of others. Bottoms tend to be capitulative, with sentiment and price in sync.

Here are the charts:

Weekly Market Summary

The weekly market summary allows us to track the market's narrative as it changes. The story so far has been a 4 month uptrend, recently capped by a 7 week streak of higher closes. Uptrends do not typically end abruptly with that type of strength.

At the end of January, some of the secondary indicators started to move from 'tailwind' to 'headwind'. Sentiment (measured several ways) became exceedingly bullish. Then, macro data started to disappoint versus expectations. Both of these often lead price.

In the past two weeks, three new headwinds developed. First: actual $SPX earnings implied flat growth in FY13 versus expectations of growth of 10%. Second: markets outside the US, in both $EEM and Europe, declined and closed under their 20-dma. Third: breadth in US markets narrowed as price rose, creating a bearish negative divergence.

Which brings us to key changes this week:

1. Trend: This is the most important factor in the summary and for the 13th week out of the past 14, a majority of US indices/sectors closed >13 ema. However, the trend is weakening. You can see two trend downgrades on the summary chart below.
• $SPX, our focus, closed under its 2013 trend line this week. 
• Moreover, half of the 6 cyclical sectors closed <13 ema. In February, defensive sectors are leading the market, a bad sign. 
• Cyclicals appear to following ex-US markets, which continue to weaken further. This week, $DAX, $HSI, $SSEC and $EEM, together with $6A, $6E, oil and copper, all closed < 50-dma. All of these correlate well with US indices. 
• Bonds, which have based during the past month, closed near a monthly high and > 13 ema; something to watch this week.
2. Breadth: This is the second most important factor and we have noted that $NYSI has been slowly declining. This week, however, a day after a new high in indices, the market experienced its first 90% down day since November; a major distribution day (MDD). When these occur at new highs, selling momentum normally carries over.  Read further here.

The bottom-line is this: US indices and sectors are, for the most part, still trending upwards and, again, strong uptrends like this do not typically end abruptly. We would expect, based on past performance, for the indices to make at least one higher high. If you like patterns, think of a 'head' or 'right shoulder'; if you prefer waves, think of a 5th of 5 wave uptrend. But the trend is weakening and most of the other factors are now headwinds to further appreciation.  

As a result, the risk/reward is becoming much less attractive. You could swing and hit the ball, but it will be low and outside, not a fat pitch.

The next area of resistance, from the 2007 peak, is 2% away (reward). Meanwhile, a 38% retracement and the 50-dma are 3% below (risk). In January 2011, $SPX rose 7 weeks in a row and then experienced a MDD, just like this week. Over the next year, upside was a further 5% (reward) while downside was 12% lower (risk). 

This week, among other things, look for whether cyclicals and ex-US markets change behavior or continue to underperform. Also, a second MDD would be a major watch out that sellers are taking control. Finally, watch whether Mr Bond can move above its recent base. All of this while the sequester approaches.